The recent, high-profile dissolutions of the decentralized autonomous organizations (DAOs) behind Hector Network on the Fantom blockchain and Parrot Protocol on Solana have exposed the shortcomings of Web3’s iconic governance structure.
The community behind Hector, a fork of the Olympus DAO, voted to distribute its entire $16 million treasure in mid-July after suffering heavy losses from a hacker attack in June and the collapse of bridging protocol Multichain in July. The vote came as part of a long-running campaign by a group called the Risk Free Value Raiders, which portrayed the project as mismanaged – a tactic it had previously used to undermine other projects.
The team behind crypto lending project Parrot, meanwhile, received majority support for its proposal to use $50 million of its $73 million Treasury to buy out token holders – at a fraction of what they originally paid . The proposal passed despite widespread anger in the community, in part because insiders had unlocked a large tranche of untransferred tokens.
The possibility of such business-destroying proposals being pushed through – either by malicious outsiders or insiders who don’t have the project’s best interests at heart – is just one of the shortcomings of the shared DAO structure. These shortcomings become more and more apparent as the ideal of collective governance falls into the cold light of lived reality.
The problem facing DAOs is big. But that doesn’t mean it can’t be solved. The key to good governance without sacrificing Web3 principles lies in technology – particularly automation.
The decentralized autonomous organization was originally conceived as the best and most democratic way to manage Web3 projects while remaining true to the core values of self-sovereignty, transparency and freedom from central control.
Instead of top-down management by executives and decision-making behind closed doors, DAOs should enable collective oversight by token holders who would vote on proposals via smart contracts.
The concept became very popular, and there was continued talk of broader applications of the structure that went well beyond Web3.
However, reality often fell short of the ideal.
Disadvantages of collective governance
As the demise of Hector and other projects targeted by activists shows, majority rule systems, when poorly designed, can make DAOs particularly vulnerable. These systems are at high risk from organized attacks in which hostile outsiders invade the community, amass a critical mass of voting power, and seize control to line their own pockets without concern for the project’s goals.
Reliance on collective decision-making can also lead to other problems.
Participatory governance requires exactly that: participation. In an ideal world, every project would be driven by a collaborative community committed to its goals and willing to make suggestions and consider them carefully. Engaged communities would help publicize a project’s successes, drive adoption, and generate innovative grassroots ideas.
In reality, however, engagement on many projects can be very low and community members often do not vote.
Institutional investors may be cautious due to the uncertain regulatory environment as cryptocurrencies become more decentralized. And many private investors seem unwilling to invest that time.
Projects can try to generate interest by holding Discord discussions, issuing token airdrops, or rewarding outstanding contributors. However, because participation is completely voluntary, there is no way to force members to participate.
Low participation rates lead to a number of real and practical problems that can seriously affect the growth and development of a project.
Not only can they make a DAO vulnerable to takeover by an outside group, but they can also cause tension and slow down decision-making. And in an industry that changes as quickly as Web3, opportunities don’t stay open for long.
Some DAOs have attempted to address these issues by recentralizing parts of the governance process. But giving an individual or small group of actors an “emergency override” button in this way is child’s play at best. It flies in the face of Web3’s commitment to transparency and freedom from central control, and opens the door to exactly the kind of secretive, room-where-it-happens decision-making that blockchain was designed to relegate to the past.
There is a better way.
Technical solutions to the human shortcomings of DAOs
Automation through smart contracts can help solve many of the most pressing problems with the DAO concept.
The great strength of the smart contract is its ability to automate important parts of the governance process. By enabling smart contracts to handle key operational decisions for a DAO, projects can eliminate bottlenecks and increase efficiency while ensuring full transparency for members.
Automating key actions would help prevent bad actors from pushing forward proposals that undermine a project’s best interests – e.g. B. the liquidation of the Treasury – or reject proposals that would move them forward.
To ensure that the community remains the decisive voice, projects taking this route should require robust feedback on which calls will be automated and which will continue to require their direct action.
With decisions left to DAO members, founders and development teams should work to increase engagement through mechanisms such as voting delegation, where an individual delegates their vote on a specific topic to another member whose expertise they value. This can maintain widespread empowerment while alleviating many of the bottlenecks to broader participation in governance.
It goes without saying that complementary automation and delegation programs should be carefully designed to protect against the very attackers and other malicious actors that made them necessary in the first place. Without careful implementation, any system can become vulnerable to exploitation.
Still, with care, clear communication, and community input, it is possible to balance all of these conflicting demands and create a governance system that is simultaneously fully decentralized, fully transparent – and flexible enough to take advantage of the countless possibilities which offer themselves in DeFi.